–Governing Council Looking for Evidence Downward Momentum in Inflation Is Sustained
–Governor Macklem: Lowering Policy Rate Too Early or Cutting Too Fast Could Jeopardize Progress Made Bringing Inflation Down
–Macklem: A June Rate Possible on Condition Policymakers Become More Confident that Inflation is Clearly on Path to 2%
By Max Sato
(MaceNews) – The Bank of Canada on Wednesday maintained its policy interest rate — the target for overnight lending rates — at 5.0% for the sixth straight meeting, as expected, stressing that bank officials need to see clearer evidence that inflation is on its way down to their 2% target before lowering the rate from the restrictive level.
The bank said it is also continuing its policy of quantitative tightening to trim the bank’s balance sheet to a normal level.
Governor Macklem told reporters that the bank’s policy board did discuss when to lower the policy rate but also noted that there is some diversity in views among the six Governing Council members as to how close they are to starting cutting rates. He repeatedly said that “there was a clear consensus to hold at 5%” at today’s meeting.
A rate cut at the bank’s next meeting in early June would be possible but only on condition that policymakers become more confident about sustained easing in inflation, Macklem said.
“While inflation is still too high and risks remain, CPI and core inflation have eased further in recent months,” the bank said.
Governing Council “will be looking for evidence that this downward momentum is sustained, it said, sounding slightly bearish than what it said in its March statement that the council was “still concerned about risks to the outlook for inflation, particularly the persistence in underlying inflation.”
“Governing Council is particularly watching the evolution of core inflation, and continues to focus on the balance between demand and supply in the economy, inflation expectations, wage growth, and corporate pricing behaviour,” the bank said. Last month, it said the council “wants to see further and sustained easing in core inflation and continues to focus on the balance between demand and supply in the economy, inflation expectations, wage growth, and corporate pricing behaviour.”
Appropriate to Cut Rate When Inflation Clearly on Path to 2%
In his opening statement at a news conference, Governor Tiff Macklem said, “We don’t want to leave monetary policy this restrictive longer than we need to. But if we lower our policy interest rate too early or cut too fast, we could jeopardize the progress we’ve made bringing inflation down”.
Asked if it is possible for the bank to start cutting rates in June, Macklem replied, “Yes, it’s within the realm of possibilities. I think we’ve been clear. We are encouraged by what we’ve seen since January.”
“If we look at our indicators, they are not all progressing at the same speed but they’ve all been moving in the right direction,” he said, but added, “We need to see that progress continue.”
“If things evolve broadly in line with the outlook that we published today, we will be becoming more confident that we clearly are on a path to 2% inflation and it will be appropriate to cut our interest rate,” said the governor.
Asked whether more inflation, jobs and GDP data due before the bank’s next policy meeting on June 5 are likely to provide enough evidence that makes the bank’s policymakers more confident about the need for a rate cut, Macklem said, “What is on our mind is that the decline that we’ve seen in (inflation) momentum is very recent.”
“Wage growth has just started easing and inflation expectations for households are only coming down very slowly,” he said. The bank’s latest analysis is that the range of wage measures is now around 3.5% to 4.5%, as opposed to around 4% to 5% observed three months ago.
Monthly data have shown a mixed picture. The jobless rate jumped to 6.1 percent in March from 5.8 percent in February but growth in average hourly wages edged up to 5.1 percent on year after easing to 5.0 percent.
Consumer inflation has moderated to a nine-month low of 2.8 percent in February from 4.0% last August while GDP showed the economy started the year with a robust 0.6 percent gain on the month in January and a further 0.4 percent rise is expected, prompting the bank to revise up its forecast for the first quarter GDP growth to 2.8% from just 0.5% projected in January.
“In Canada, economic growth stalled in the second half of last year and the economy moved into excess supply,” the bank said.
“A broad range of indicators suggest that labour market conditions continue to ease,” it said. “Employment has been growing more slowly than the working-age population and the unemployment rate has risen gradually, reaching 6.1% in March. There are some recent signs that wage pressures are moderating.”
But overall, the bank projected that economic growth is forecast to pick up in 2024, largely due to both strong population growth and a recovery in spending by households. The contribution to growth from spending by governments has also increased while business investment is projected to recover gradually after considerable weakness in the second half of last year, it said.
Boc Revises Up GDP Forecast for 2024, Lowers 2025 Estimate
The Canadian economy expanded 0.2% on quarter, or an annualized 1.0%, in the October-December quarter, averting two consecutive quarters of contraction, as net export and consumer spending gains offset declines in housing and capital investment. The economy then grew 0.6% on the month in January, beating the median forecast, and Statistics Canada expects a further 0.4% rise in February.
This has led the bank to revise up its 2024 GDP growth forecast to 1.5% from 0.8% projected about three months ago. The bank expects the economic growth to accelerate to 2.2% in 2025, but it was revised down from its previous forecast of 2.4%. The bank’s first estimate for 2026 is 1.9% growth.
“Strong population growth is increasing consumer demand as well as the supply of workers, and spending by households is forecast to recover through the year,” Macklem said. “Spending by governments also contributes to growth, and U.S. strength supports Canadian exports.”
“As we get to the second half of the year, population growth starts to slow but consumption per household starts to pick up,” he said.
BoC Sees Inflation Drift Down to 2% Target Toward 2025
The bank expects CPI inflation to be close to 3% during the first half of this year, move below 2.5% in the second half, and reach the 2% inflation target in 2025.
The bank’s latest consumer inflation outlook for 2024 is 2.6%, down from its previous projection of 2.8%. The consumer price index rose 3.9% in 2023 after soaring 6.8% in 2022 and rising 3.4% in 2021.
As for the CPI in 2025, the bank forecast the annual inflation rate will remain just above the target at 2.2%, unchanged from 2.2% projected in January. The bank’s CPI estimate for 2026 is 2.1%, roughly at its target.
Canada’s overall consumer inflation eased to 2.8% in February from 2.9% in January after accelerating to 3.4% in December from 3.1% in November. It had moderated to 2.8% in June 2023, which was the lowest since 2.2% in March 2021 and a sharp drop from a recent peak of 8.1% hit in June 2022.
“Looking ahead, we expect core inflation to continue to ease gradually,” Macklem said. “The more timely three-month rates of core inflation fell below 3% in February, suggesting some downward momentum. But with gasoline prices rising, CPI inflation is likely to remain around 3% in the coming months.”
In the MPR, the bank noted that wage growth is showing some signs of moderating. “The range of measures is now around 3.5% to 4.5%, as opposed to around 4% to 5% at the time of the January Report,” it said. “However, for such wage growth to become compatible with the 2% inflation target, productivity growth would need to increase substantially.”
BoC More Concerned About Upside Risks to Latest Outlook
There are both upside and downside risks to the banks’ latest outlook. “Overall, the bank views the risks to inflation to be balanced,” the BoC said. “With inflation continuing to be above target, the bank is more concerned about the upside risks.”
Among three key upside risks, house prices could rise faster than forecast if easing financial conditions or population growth leads to stronger-than-expected demand for housing while supply remains constrained, the bank said.
Second, if wage growth does not slow, or if productivity remains weak, firms will continue to face elevated cost pressures. “In turn, this could lead to higher inflationary pressures,” it said.
Third, new international trade disruptions stemming from global tensions and conflicts, including wars in the Middle East and in Ukraine, could impact global commodity prices and impede the supply of traded goods. “If these disruptions persist or worsen, they could delay the return of inflation back to target by increasing production costs and prolonging elevated inflation expectations,” the bank warned.
Since Canada is an exporter of commodities, higher prices of energy and commodities will increase its income and affect domestic demand, Macklem noted.
On the downside, the effects of past increases in interest rates on economic activity and inflation could be larger than in the base case. “Given upcoming mortgage renewals and record-high levels of household debt, Canadians could become more cautious and cut back consumption spending more than projected,” the bank said. “In turn, slowing demand combined with tight financial conditions could make Canadian businesses less willing to invest or to hire new workers.”
Global activity could also be weaker than in the base case. This could occur if central banks in the U.S. and Europe need to keep monetary policy tighter than assumed to bring inflation back to target. In China, high debt levels and challenges with managing credit risk may further weaken lending and growth.
In addition, goods inflation could be affected if the prices of China’s exports fall by more than currently assumed and those price changes are then passed on to consumers. “Demand for goods, which remains elevated compared with pre-pandemic levels, could also soften more than anticipated,” the bank said.
BoC officials are monitoring underlying inflation, which is “more of a concept than a measure” and reflects many factors, such as the bank’s own core inflation measures, prices excluding energy and the number of items whose prices are still rising more than 3% on year.
The core CPI measures that strip out most of the shelter components were still running above 3%, whether on a 12- or three-month basis, Governor Macklem said last month. Since his remarks, the year-over-year increase in the CPI trim has eased further to 3.2% in February from 3.4% in January while the annual rate of the CPI median slowed to 3.1% from 3.3%, but they are still above 3%.
“Momentum in CPI-trim and CPI-median has recently slowed, with annualized growth on a three-month basis of 2.3% and 2.1%, respectively,” the bank said in the MPR. “Core inflation should slow further in the coming months if three-month rates remain below the year-over-year rates.”
Raised Neutral Rate Estimate Not Affecting Real Time Monetary Policy
In its annual update, the bank estimates that the nominal neutral rate in Canada has risen to lie within a range of 2.25% to 3.25%, which is 25 basis points higher than in the April 2023 assessment. The midpoint estimate consists of a 2% inflation target and a 0.75% real neutral rate.
Asked whether the upward revision to the neutral rate will have any impact on the scale of an expected interest rate cut, Macklem said, “It (the neutral rate) is a necessary input in our models but it’s not something that really has much of an influence on our real time monetary policy.”
“In real time, we are much more focused on where is inflation is headed and what do we need to do to get inflation back to the 2% target and what do we need to do to maintain it,” he said. “The neutral rate is where our policy rate would be in the long run.”
The BoC raised its target for overnight lending rates by a total of 475 basis points (4.75%age points) between March 2022 and July 2023, jacking up the key rate through 10 increases from its record low of 0.25% to a 22-year high of 5%.
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